Which of These Companies Can Thrive in India?

Starbucks and Diageo are well poised to benefit from the Indian growth story, while Wal-Mart is not

The much-awaited Foreign Direct Investment bill, or the FDI bill, was passed in India last year. This allowed Starbucks(NASDAQ:SBUX), Diageo(NYSE:DEO) and Wal-Mart(NYSE:WMT) to enter India soon thereafter. But that's old news. Lets analyze how these companies have fared in India so far, and what lies ahead.

Growth from expansionsStarbucks entered the Indian market by forming a 50:50 joint venture with the Indian-based Tata Global Beverages. The joint entity – Tata Starbucks – opened its first store in Mumbai last year, and since then it has expanded its network to 30 stores located in prime locations across Delhi-NCR, Pune and Mumbai. But more importantly, these launches were quite successful.

(Source: Economic Times)

The above info-graphic reveals some key facts. Costa Coffee and Café Coffee Day have been operating in India since 2005 and 1996, respectively. However, Starbucks – with its brief presence in India – has outperformed its well-established peers in terms of revenue-per-store. This demonstrates the overwhelming response that the Seattle-based coffee chain is receiving in India.

Speaking of its business operations, Tata Starbucks procures Arabica beans directly from the estates of Tata Coffee located in India. This saves expensive international shipping costs. Furthermore, manpower is relatively inexpensive in India. This suggests that its cafés in India will be more profitable than its cafés in the U.S. But investors shouldn't expect Tata Starbucks to generate sizable returns over the shorter term.

Starbucks operates 19,000 stores across the globe, so its 30 new store openings in India won't have a significant impact on its overall top line. The coffee chain, however, has earmarked Rs. 220 Crores (about $35 million) to open 100 cafes across India over the next year. This will strengthen its foothold in India, and allow it to compete with the well-established coffee chains in India over the longer run. So, investors should look at the broader picture and invest with a long-term view.

Growth from value unlockingDiageo offers lucrative growth prospects as well. The liquor giant had acquired a 25% stake in the Indian-based United Spirits earlier this year, and plans to buy another 27.4% stake in its Indian counterpart for Rs. 5,725 Crores (about $916 million). But where's the growth?

United Spirits is the world's second largest liquor company by volume, with FY12 revenue from operations amounting to Rs. 10,5000 Crores (about $1.68 billion). However, its total debt aggregates to about Rs. 7,000 Crores (about $1.12 billion), which the Indian liquor giant has been unable to repay.

So, Diageo plans to infuse capital in United Spirits by purchasing a large stake in the company. This capital will be used to refinance up to 50% of the debt carried by United Spirits, and eventually reduce its interest expenses. This would allow the Indian liquor giant to use its operating cash flows to fund its own expansions. But that's not all.

Diageo also plans to sell its own products in India, using the well-established distribution network of United Spirits. This way, Diageo won't have to spend time and financial resources to setup its own distribution network in the country.

IndigoEdge estimates that alcoholic beverage industry in India is about $35 billion in size and is growing by about 8% annually. So naturally, Diageo's entry in India would open a whole new growth avenue for the company – but over the medium/long term period.

And a dud!Among the companies above, Wal-Mart offers minimal growth prospects. Wal-Mart dissolved its 6 year-long partnership with Indian Bharti Group earlier this year. Management of the U.S retail giant blamed pervasive Indian corruption for the corporate divorce.

Post break-up, Wal-Mart gains full control of 20 "Best Price" wholesale stores in India. On the other hand, Bharti gains full control of its 202 "Easy Day" stores, which are retail stores. But since Wal-Mart operates over 11,000 stores across the globe, its 20 wholesale stores in India will represent a negligible share of its overall revenues. So, Wal-Mart gaining full control over Best Price stores isn't a big positive. But that's not all.

Lobbying is illegal in India, which means Wal-Mart can't meet with Indian politicians and lawmakers to speed-up its expansions in India. This means that the global retailer will have to find a capable Indian business partner. Then it will have to resubmit its expansion plans to the government authorities– through their official correspondence channels. This procedure could take a long time, and it could be months before Wal-Mart has some good news to report.

So, investors shouldn't get overly optimistic when they hear that Wal-Mart is lobbying with U.S lawmakers to enter India.

Final thoughtsBoth Starbucks and Diageo seem to offer robust growth prospects. They have partnered with established names in the Indian market, and are coming in with ample cash. So, investors could consider investing in both companies with a long-term view. However, for the reasons mentioned above, Wal-Mart may not benefit from the Indian growth story anytime soon.

Author

Piyush, an Electronics Engineer with an MBA in Finance, is continuously looking for discrepancies in market pricing. He likes to research tech stocks that incur minimal risks and offer healthy returns, over the short-medium term period.Follow @BuzzVestor